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In a new detailed document entitled “Statutory maternity leave – salary sacrifice and non-cash benefits”, HMRC provides guidance for employers on their statutory obligation to maintain contractual benefits while employees are on maternity leave. Some of the guidance is practical, some is questionable and contentious. The document includes many worked examples and sections that clarify common misconceptions. The following notes are in three parts; first a summary of the current law and the changes that are being made during 2008, second a summary of the guidance in HMRC’s document, then some comments on the issues raised by some of the guidance.

Employment law relating to maternity leave

Current employment law provides different rights with regard to terms and conditions during ordinary maternity leave, i.e. the first 26 weeks of leave, and during additional leave, i.e. the second 26 weeks of leave.

In relation to her terms and conditions of employment, a woman in entitled

• during ordinary maternity leave, to the benefit of her terms and conditions as if she were still at work, with the exception of any terms and conditions about remuneration. A woman’s “remuneration” refers to any “sums payable … by way of wages or salary”.
• during additional maternity leave, only to the benefit of her terms and conditions relating to notice periods, redundancy compensation, and disciplinary and grievance procedures.

On returning to work from

• ordinary maternity leave, she returns with her seniority, pension rights and similar rights as they would have been if she had not been absent.
• additional maternity leave, the period of her additional maternity leave does not count towards her seniority, pension rights and similar rights.

A woman’s rights during maternity leave are also affected by provisions in Social Security legislation. In order to avoid discrimination during maternity leave, her employer’s contributions to her (defined contribution) occupational or personal pension scheme must continue, throughout any period when she is receiving Statutory Maternity Pay (SMP) or Occupational Maternity Pay (OMP), at the same level as they would be if she were still at work.

The effect of these employment and social security provisions is that

• the employer is not required to pay the woman’s wages or salary during ordinary and additional maternity leave,
• the employer is, however, required to maintain her entitlement to contractual non-cash benefits during ordinary maternity leave, but not during additional maternity leave,
• the period of ordinary leave counts towards a woman’s pensionable service, but the period of additional leave does not, and
• the employer must continue to pay full pension contributions while the woman is being paid SMP and/or OMP (currently up to 39 weeks).

As a result of changes made to the Sex Discrimination Act 1975 from 6 April 2008, the full terms and conditions (with the exception of remuneration) that apply during ordinary maternity leave will also apply during additional maternity leave. The change will apply to women whose expected week of childbirth (EWC) starts on or after 5 October 2008.

In addition, the definition of “remuneration” has been made more specific so that it refers to:

• “benefits that consist of the payment of money to an employee by way of wages or salary, and
• benefits that are not benefits whose provision is regulated by the employee’s contract of employment” (i.e. benefits that only have business use).

The effect of these changes is that, in respect of EWCs starting on or after 5 October 2008,

• the employer is not required to pay the woman’s wages or salary, or provide any non-contractual non-cash benefits, during ordinary and additional maternity leave,
• the employer is, however, required to maintain her entitlement to contractual non-cash benefits during ordinary and additional maternity leave,
• the period of both ordinary and additional leave counts towards a woman’s pensionable service, and
• the employer must continue to pay full pension contributions while the woman is being paid SMP and/or OMP (currently up to 39 weeks).

There has been no specific statement from the Government as to whether these changes will also apply to adoption leave, although this has been confirmed unofficially.

1. Salary sacrifice during Maternity Leave

The following points on salary sacrifice are made by HMRC in the new guidance document. Note that this is only HMRC’s guidance; our comments on this guidance are given later in this summary.

1.1 A “salary sacrifice” is a legally-binding change in the contractual arrangements between employer and employee, most commonly where the employment contract is amended to reduce the employee’s entitlement to cash salary, and a non-cash benefit is provided instead.

1.2 Salary sacrifice arrangements are covered by employment and contract law. Employers should consider taking legal or HR advice when making amendments to employment contracts.

1.3 The October 2008 changes do not in any way affect how average earnings are calculated for SMP entitlement purposes. The calculation uses the NICable earnings in the relevant eight week period and, if the woman has made a salary sacrifice and her pay is contractually lower, the amount of SMP paid for the first six weeks and, in some cases, for the remaining 33 weeks, will be lower than it would otherwise be.

1.4 SMP must be paid in cash (as opposed to goods) and is subject to PAYE tax and Class 1 NICs. The SMP payment may be reduced by any voluntary payments that would have been deducted from her remuneration if she were still working, such as trade union dues, charity donations and pension contributions. However, the right to SMP cannot be excluded, limited or otherwise modified by any contractual provision. As a result, SMP cannot be reduced by the terms of a salary sacrifice scheme. Salary sacrifice is a contractual reduction in wages or salary, not a deduction, even though the entries on some payslips may wrongly give that impression. For example, if a woman has sacrificed £50 a week and is receiving £50 of childcare vouchers each week, her SMP cannot be reduced by £50 per week.

1.5 The guidance given at points 1.3 and 1.4 above apply equally to Statutory Adoption Pay (SAP), Statutory Paternity Pay (SPP) and Statutory Sick Pay (SSP).

1.6 If a woman is receiving a contractual non-cash benefit, such as childcare vouchers, under a salary sacrifice arrangement, she is entitled to continue to receive the benefit during ordinary maternity leave and, from October 2008, during additional maternity leave, “regardless of any contrary contractual agreement between employer and employee and regardless of any salary sacrifice arrangement”.

The following occasional misunderstandings are clarified:

1a. Misunderstanding: Under a salary sacrifice scheme, the employee is still entitled to the original salary but a deduction, the salary sacrifice, is deducted leaving a net salary entitlement. No. A salary sacrifice is a legally binding change in the employee’s contractual terms and conditions. While the salary sacrifice remains in force, the employee is only entitled to the reduced cash wage or salary.

1b. Misunderstanding: An employee’s agreement to a salary sacrifice also applies to Statutory Payments. No. An agreement, including a salary sacrifice, may not exclude, limit or otherwise modify the Statutory Payments due to an employee.

1c. Misunderstanding: A salary sacrifice is a “scheme” designed to enable employees to purchase a benefit from the employer by paying for it directly by sacrificing some of their cash salary. No. Salary sacrifice is not a method of paying the employer for a non-cash benefit. Each element of the employee’s remuneration package – the salary or wage, and each non-cash benefit – stands alone. “Even though the employee may agree to reduce the amount of cash wages in order to receive childcare vouchers, for example, there is no legal connection between the two. The contract simply specifies that the employee is entitled to receive an amount of salary and the provision of certain benefits.”

1d. Misunderstanding: Where there is a salary sacrifice, the SMP calculation should reflect the original earnings, not the reduced earnings, in order to preserve entitlement to a higher rate of SMP. No. The SMP calculation is based on actual gross earnings for Class 1 NICs in the relevant eight-week period. It may not be adjusted to reflect the original rate of pay even if that rate is used notionally to calculate other payments, such as pension contributions, overtime, bonuses, etc.

1e. Misunderstanding: If an employee reverts to the pre-salary sacrifice rate of pay between the start of the relevant eight-week period and the end of maternity leave, that constitutes a pay rise that forces a recalculation of SMP. No. A contractual return to the original salary is not a pay rise “in the generally accepted sense of the term”. The overall value of the remuneration package has not changed. The return to the higher salary is not an “award”, as is required by the legislation.

1f. Misunderstanding: All childcare vouchers automatically qualify for the £55 per week exemption from tax and NICs. No. The exemption only applies if the vouchers are used to pay for registered or approved childcare.

1g. Misunderstanding: HMRC should provide advice on setting up, drafting, operating or varying salary sacrifice arrangements. No. “Employment contracts are covered by contract and employment law. HMRC is not able to provide this specialist legal advice. Employers should consider taking advice from employment law and HR professionals. HMRC will provide advice on the employer’s obligation arising from the amended contracts - in particular, the amounts on which PAYE and Class 1 NICs should be applied, the P11D and Class 1A NICs requirement, and the SPs implications.”

1h. Misunderstanding: Employers must continue to provide contractual non-cash benefits during maternity leave in every circumstance. No. The employee, if permitted by the terms of the contract, “may be able voluntarily to opt out of receiving the non-cash benefit under the salary sacrifice arrangement. However … the employer cannot compel the employee to opt out of receiving the benefit.”

2. Contractual non-cash benefits during Statutory Maternity Leave

The following points on non-cash benefits are made by HMRC in the guidance document. Again this is only HMRC’s guidance; our comments appear later in this summary.

2.1 The contractual non-cash benefits that an employer must continue to provide during ordinary maternity leave and, from October 2008, additional maternity leave, include:

• company cars, mobile phones, living accommodation or other assets provided to the employee for non-business use, without being transferred to the employee
• medical / dental / critical illness / travel / car insurance provided under company insurance policies, employer-provided health checks
• non-cash vouchers, such as childcare vouchers which can only be used by the employee for qualifying childcare and are not transferable
• the right to accrue contractual annual leave (employees are already entitled to the statutory minimum amount of annual leave per year, regardless of whether or not they take any maternity leave).

2.2 The contractual cash benefits that an employer is not required to provide during maternity leave include:

• cash allowances, e.g. housing allowance, car allowance, fuel allowance, first aid allowance
• vouchers which have a transferable cash value, such as luncheon vouchers, retail vouchers and some vouchers for recreational benefits like membership of sports or other clubs or attendance at sporting fixtures. However this does not include non-cash benefits, such as childcare vouchers which can only be used by the employee and are not transferable.

2.3 The employer must continue to pay employer pension contributions

• during any period of paid maternity leave, and
• during ordinary maternity leave, whether or not SMP is paid.

Consequently, employer pension contributions do not need to be paid during unpaid additional maternity leave, i.e. the period of leave after the 39-week maternity pay period has ended.

If a woman is no longer receiving any payments during leave and works for her employer during one or more Keeping In Touch days (KIT days), pension contributions would be due in respect of the remunerated work.

2.4 Employers are not required to provide during ordinary or additional maternity leave any contractual non-cash benefits that were previously provided for business use only, such as some company cars or company vans.

2.5 The amount of SMP that must be paid is based on earnings for Class 1 NICs purposes in the eight-week relevant period. Such earnings include:

• any salary or wages (including cash allowances, e.g. a car allowance)
• any other element of the person’s remuneration which is chargeable to Class 1 NICs, e.g.
  • some non-cash benefits, such as childcare vouchers where the value exceeding £55 per week is subject immediately to Class 1 NICs
  • shares or share options
  • retail vouchers, where the provision is subject immediately to Class 1 NICs

Where the employer meets the tax and NICs liabilities arising on benefits under a PAYE Settlement Agreement and the benefit would otherwise have been subject to Class 1 NICs during the eight-week relevant period, the value of the benefit must also be included if, without it, the woman’s average earnings would not be high enough to qualify for SMP.

The following occasional misunderstandings are clarified:

2a. Misunderstanding: If there is little or no cash pay to sacrifice during maternity leave, the benefit that was provided instead should not continue to be provided. No. Contractual non-cash benefits must continue to be provided during ordinary maternity leave and, from October 2008, during additional maternity leave, even though there is no pay to sacrifice.

2b. Misunderstanding: Employer and employee are free to opt out of a salary sacrifice arrangement at will and, therefore, the employer may cease providing non-cash benefits during maternity leave. No. It is a question of employment and contract law whether a salary sacrifice agreement can be changed and when any change is effective. “However, the employee is entitled to continue receiving during OML and AML any non-cash benefits she was entitled to as a term of her employment contract. No contrary contractual agreement between employer and employee can override this requirement.”

2c. Misunderstanding: Contractual non-cash benefits must continue to be provided during maternity leave in every circumstance. No. “Subject to the terms of the contract the employee may be able voluntarily to opt out of receiving the non-cash benefit under the salary sacrifice arrangement. However it is important to emphasise that the employer cannot compel the employee to opt out of receiving the benefit.”

2d. Misunderstanding: Employees who are not entitled to SMP are not entitled to receive contractual non-cash benefits during maternity leave. No. The requirement to continue to provide non-cash benefits applies to all employees on maternity leave, whether or not they are receiving SMP, Maternity Allowance or no payment at all.

Author’s Comments

Overall this document is well presented and practical. It has been written to address two particular issues relating to maternity leave, namely, what happens to a salary sacrifice during maternity leave, and how the benefits provided under salary sacrifice scheme are affected by the statutory change from October 2008.

The first and most significant issue is whether HMRC should be publishing this document at all.

HMRC has statutory responsibility for the collection of taxes, the payment of tax credits, the collection of student loan repayments and enforcement of the National Minimum Wage. Family leave rights (maternity, adoption, paternity, parental leave) are employment law provisions and are the responsibility of the Department for Business, Enterprise and Regulatory Reform (DBERR). DBERR is also responsible for the SAP and SPP legislation. The other statutory payments (SMP and SSP) are governed by Social Security legislation, the responsibility of the Department for Work and Pensions.

HMRC’s close involvement with statutory payments is understandable and useful as they are part of the payroll process. HMRC publishes a number of employer Helpbooks each year to explain the administration of SMP, SAP SPP and SSP, such as booklet E15 Pay and Time Off Work for Parents. It is also understandable that the Helpbooks should explain the related leave provisions. Statutory payments and statutory leave are intertwined, despite being governed by separate legislation.

Is it appropriate, therefore, for HMRC to provide guidance on employment law and employment contracts in the context of salary sacrifice schemes? The use by employers and employees of salary sacrifices raises important tax issues and HMRC provides comprehensive guidance on what is necessary for a salary sacrifice to be “effective” or “successful”. Links to such guidance are provided below.

But, to what extent should HMRC get involved in the related contract and employment law? HMRC’s position is stated in the new document (see Misunderstanding 1g above, where the document is quoted verbatim). In the Employment Income Manual, HMRC makes the following point:

What is the role of HM Revenue & Customs?

The nature of an employee’s contract of employment is a matter for the employer and employee.

HM Revenue & Customs’ interest is in determining how the tax and NICs legislation applies to the various elements in the employee’s remuneration package. Many payments and benefits are treated in the same way for both tax and NICs. But, in some cases, where a particular benefit may be exempt from tax and or NICs or subject to Class 1A NICs, the tax and NICs outcome will be different.

Where a salary sacrifice has been put in place for the purpose of converting cash pay that is subject to tax and Class 1 NICs to a benefit that has a different tax/NICs treatment, HM Revenue & Customs has to be satisfied that the salary sacrifice is effective. The effect of the contractual change must be that the employee has given up the right to some of their cash pay in return for the benefit. Only then can HM Revenue & Customs deal with the benefit under the relevant employee benefits legislation.

This is particularly important where the benefit is exempt from tax and/or NICs.

If HMRC sees its role as providing advice on the tax and NICs obligations arising from salary sacrifice schemes, why has it published guidance that concentrates on the contractual and employment law aspects of salary sacrifice schemes?

Such guidance should be provided by DBERR and, indeed, extensive guidance on all aspects of employment law is provided on DBERR’s website. Many aspects of the information provided in HMRC’s document are covered at www.berr.gov.uk/employment/employment-legislation/employment-guidance/page34244.html#Statutory#Statutory, a page that is specifically referred to by HMRC. DBERR’s guidance does not, however, extend to employer’s responsibilities with regard to benefits provided under salary sacrifice schemes. Perhaps it should.

It has to be asked, therefore, whether most of the material contained in HMRC’s document is relevant to HMRC’s key role, i.e. deciding whether a salary sacrifice scheme is “effective” for tax and NICs purposes. If an employer stops providing childcare vouchers when a woman goes on maternity leave because it is no longer possible to obtain the funds to buy them out of the salary sacrifice, does that make the salary sacrifice up to that point ineffective? The employer may be in breach of employment law and may be vulnerable to a claim of sex discrimination, but is the employer in breach of tax law? There is no suggestion by HMRC in the document that that is the case.

Now to some specifics.

Employer Pension Contributions

HMRC’s guidance (point 2.3) conflicts with DBERR’s guidance (at the link above), even though HMRC provides the supporting link. According to HMRC, an employer must continue to pay full pension contributions during ordinary maternity leave, even when the woman is not receiving SMP. DBERR’s guidance makes no reference to this, only confirming that pension contributions must continue during periods of paid leave, as required by Social Security legislation (Schedule 5 of the Social Security Act 1989).

Which guidance is correct? The position is open to interpretation. The only direct reference to “pensions” in the employment law is that, when a woman returns to work from ordinary maternity leave, her “pension rights” are preserved as if she had not been absent. The legislation (Regulation 18A of the Maternity and Parental Leave etc Regulations 1999), with reference to preservation of “pension rights”, states specifically that those rights are subject to the requirements of the Social Security Act 1999. It could be argued, therefore, that the reference to “pension rights” cannot, in itself, be interpreted as including a requirement for the payment of employer pension contributions.

On the other hand, the employment law specifically excludes only “payment of money…by wage of wages and salary” and business use benefits from the obligation to continue the provision of benefits during maternity leave. There is no exclusion from this obligation for pension contributions, leading to HMRC’s direction that employer pension contributions must continue during ordinary maternity leave, whether or not it is paid.

HMRC’s approach is reinforced by the following comments of a Government minister during a House of Lords debate on the Employment Bill 2002:

This means that employers are obliged, in respect of all other terms and conditions of employment, to continue providing the employee with the same benefits as they did before the period of maternity leave began. This includes access to, and contributions to, occupational pension schemes. Employers must contribute to these schemes, or indeed to personal pension schemes where appropriate, in the same way as before.

HMRC’s guidance is deficient, however, in that it does not go on to explain the situation from 5 October 2008, when the right to continue to receive contractual non-cash benefits is extended to additional maternity leave. It follows from HMRC’s application of the employment law that, from that date, employer pension contributions must also be paid during any period of unpaid leave after the woman has received her 39 weeks of SMP.

Link between the salary reduction and the new benefit

Perhaps the most contentious issue in the document is the requirement for employers to continue providing a benefit provided under a salary sacrifice for up to 26 weeks (currently) and up to 52 weeks (from October 2008), even though there is no way of recovering the costs of that benefit through the salary sacrifice. For example, if a woman is receiving £55-worth of childcare vouchers each week under a salary sacrifice agreement, it would cost the employer over £3,000 to continue to provide them for 52 weeks (including administration charges). If she has entered into an agreement for a cycle and safety equipment, the employer could end up paying for the equipment in full before she returns to work.

HMRC endeavours to separate the contractual salary reduction and the new benefit from each other by stating, in Misunderstanding 1c, that there is no “legal connection” between the two and that they are two independent provisions of the contract. There is no doubt that both the employer and the employee – the parties to the salary sacrifice arrangement – would disagree. The employer would not have entered into the arrangement if it were not possible to pay for the benefit by means of the salary reduction. The employee was enticed into making the sacrifice by the tax and/or NICs savings. The formal salary sacrifice agreement itself may well link the salary reduction and the benefit together in the context of situations that would lead to reinstatement of the original contract.

The salary reduction and the benefit are undoubtedly linked contractually in the minds of the parties and, given a renegotiation of the contract at some future point, the benefit may be withdrawn and the salary may return to its original level. There are several references in the document to such a reversal of the agreement and HMRC, in its guidance given in the Employment Income Manual, indicates that such a reversal after at least 12 months or earlier in the event of a “lifestyle change” would not render the salary sacrifice ineffective. (Reference: www.hmrc.gov.uk/manuals/eimanual/EIM42767.htm and www.hmrc.gov.uk/specialist/sal-sac-question-and-answers.htm

Nevertheless, HMRC’s key points, that the salary sacrifice cannot be deducted from payments of SMP and that the provision of non-cash benefits must continue during maternity leave, are well-founded in the legislation.

• The social security legislation states, with regard to SMP, SAP, SPP and SAP, that “any agreement shall be void to the extent that it purports to exclude, limit or otherwise modify any provision of this” particular statutory payment. An employment contract cannot, therefore, provide for any salary sacrifice deductions to be made from statutory payments.
• The employment legislation states, with no relevant exceptions, that “any provision in an agreement (whether a contract of employment or not) is void in so far as it purports to exclude or limit the operation of any provision of this Act”. An employment contract cannot, therefore, provide that certain non-cash benefits will not continue to be provided during maternity leave.

As a result, HMRC states, at point 1.6 and at Misunderstanding 2b, that “no contrary contractual agreement between employer and employee can override” the requirement to continue to provide non-cash benefits. If a salary sacrifice is in force when a woman starts her maternity leave, she is entitled to “the benefit of the terms and conditions of employment which would have applied if she had not been absent”. The employer must continue to provide the benefit.

Is there any solution to this problem? HMRC only hints in the document at the relevance of “lifestyle changes” (at point 2b). Their role, however, is discussed in HMRC’s “Question and Answer” document on salary sacrifices. The term is normally used to define unforeseen life events that could affect the relevance of a particular benefit to the employee. Examples of such events given by HMRC are the death of a child, redundancy of a partner, pregnancy of the employee or partner, marriage or divorce of the employee. The employer might, in such circumstances, agree to revisit an existing contractual arrangement sooner than would be expected, in order to take account of a change in circumstances. Therefore, if the salary sacrifice arrangement for childcare vouchers includes “an agreement for the employer and employee to end the existing terms and conditions early in the event of any defined lifestyle change”, e.g. the employee’s pregnancy, and, as a result of this event, the woman will not need the vouchers during maternity leave, the employer and employee may agree to new terms and conditions that will suit the employee’s new circumstances, including reverting to the original contractual terms.

To avoid having to provide a benefit for the whole of maternity leave, therefore, it would appear possible for the employer and employee, at the time the employee gives notice to take maternity leave, to renegotiate the salary sacrifice agreement and, if appropriate, revert to the contractual terms that applied originally. The salary sacrifice agreement would have to include a clause that includes “pregnancy” or “maternity” as a “lifestyle change” that would prompt a review of the agreement. As long as any change is made before she actually starts her maternity leave, the provision of the benefit is no longer contractual. However, if, as HMRC points out, the employee is not interested in changing the agreement, it may be discriminatory for the employer to enforce the reversal. The issue for the employer is whether the contractual change back to its original state would have occurred if the woman had not been pregnant and planning to take maternity leave.

The possibility of having to provide childcare vouchers throughout maternity leave without any way of recovering the cost is also likely to discourage employers from offering a salary sacrifice in the first place. As it would be discriminatory to limit the offer of a salary sacrifice to employees who are not likely to have a baby, we may even see the end of salary sacrifice schemes for childcare vouchers.

Cash car allowances

In the view of HMRC, employers are not required to continue paying a cash car allowance to an employee during ordinary maternity leave. Cash allowances, such as a car allowance, are included as examples of the “remuneration” that employers are not obliged to pay. (See point 2.2 above) The position has been uncertain in the past and most employers appear to have concluded that, as the allowance is usually an alternative to a company car, which is a non-cash benefit that has to continue to be available to the employee during maternity leave, the car allowance should also continue to be paid. HMRC’s interpretation is that it is not wrong to pay it; it is just not required by the legislation.

This interpretation must be questioned. HMRC’s view of the new extended definition of “remuneration” is that, if the benefit is cash, it does not need to be paid; if it is “non-cash”, it has to be paid. However, that is not the distinction drawn in the legislation. The definition of “remuneration” specifically refers to money that is paid to an employee “by way of wages or salary”. Wages and salary are paid in respect of work performed. It may be reasonable to suggest that a first aid payment is a part of wages – it is paid in respect of a duty performed while at work. Similarly, a fuel allowance may be paid to finance the use of a car for business purposes. But a car allowance is not paid in respect of work performed; it is an employment benefit, an alternative way of providing a company car. Likewise, a housing allowance is paid in lieu of the provision of living accommodation; it is also an employment benefit. HMRC’s interpretation cannot be correct.

Further information:
Statutory Maternity Leave - Salary sacrifice and non-cash benefits
Employment Income Manual – Salary Sacrifice
Salary Sacrifice Questions and Answers
Click here to view the previous news item for Maternity/Paternity/Adoption Pay & Leave

Filed under: Maternity/Paternity/Adoption Pay & Leave on June 2nd, 2008

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